Derived Demand

Derived Demand

  • The demand for labour is a derived for demand – labour is not wanted for its own sake, but for what can be produced with it
    • Therefore, the number of workers a firm wishes to employ depends principally on the revenue that can be earned from what is produced.
      • If demand rises or the price of the products made increases, a firm will usually seek to employ more workers.

The Aggregate Demand for Labour

  • The aggregate demand for labour is also a derived demand – It depends on the level of economic activity
    • If the economic is growing, and firms are optimistic, then employment will likely rise (due to an increase in aggregate demand)
    • The reverse is also true (employment will fall if economy is tanking)
  • With the advances in technology and improvements in education and training, it may take fewer workers to satisfy the level of aggregate demand.

A Firm’s Demand for Labour

  • How many workers or working hours a firm seeks to employ is influenced by a number of factors:
    • The demand and expected future demand for products produced, and the revenue that can be earned from the output
      • This is the key influence
    • Productivity
      • The higher the output per worker hour, the more attractive labour will be as a resource
    • Wage rate
      • A rise in the wage rate above any rise in labour productivity will raise unit labour costs and is likely to result in a contraction in demand
    • Complementary labour costs
      • Firms incur other costs when they employ labour, and if these increase, demand for labour will fall
      • g. if national insurance contributions rise, demand for labour is likely to fall
    • The price of other factors of production that can be substitutes for complements to labour
      • If capital in the form of machinery becomes cheaper, and is a direct substitute for labour, then firms may seek to replace some workers by machines.


Marginal Revenue Product

  • Marginal productivity theory suggests that the demand for a product depends on its marginal revenue productivity (MRP)
  • According to this theory, the quantity of any factor of production employed will be determined where MC = MRP of that factor


  • The MRP of labour is the change in a firm’s revenue resulting from employing one more worker
    • It is found by multiplying Marginal Product (MP) by MR
  • The marginal product of labour (MPL) is the change in total output that results from employing one more worker
    • As more workers are employed, it is expected that MPL may increase
    • However, MPL may fall when a certain level of employment is reached, as diminishing returns sets in
  • A firm will employ workers up to the point where the marginal cost of labour (MCL) = MRP


  • In practise, it can be difficult to measure MRP
    • This is because it’s difficult to isolate and quantitatively assess the contribution one worker makes to output, as workers often work in teams, or their work depends on others.
  • It is also difficult to measure the marginal product of workers in the tertiary sector
    • For example, is one doctor who performs 10 operations on varicose veins in a day more productive than a doctor who does one brain surgery?